Our stock/bond asset-allocation model, which we call the Stock-Bond Barometer, is indicating that stocks are the asset class offering the most value at the current market juncture. Our model takes into account real-time levels and forecasts of short-term and long-term government and corporate fixed-income yields, inflation, stock prices, GDP, and corporate earnings, among other factors. The output is expressed in terms of standard deviations to the mean, or sigma. The mean reading, going back to 1960, is a modest premium for stocks of 0.16 sigma, with a standard deviation of 0.97. As such, stocks normally sell for a slight premium valuation. But the current valuation level now is a 0.19 sigma discount for stocks, reflecting in large part the recent sharp move lower in long-term interest rates. Other valuation measures also show reasonable multiples for stocks. The current forward P/E ratio for the S&P 500 is approximately 20, within the normal range of 13-24. The current S&P 500 dividend yield of 1.2% is below the historical average of 2.9%, but is also 32% of the 10-year Treasury bond yield, compared to the long-run average of 39%. Further, the gap between the S&P 500 earnings yield and the benchmark 10-year government bond yield is about 390 basis points, compared to the historical average of 400 basis points and nose-bleed valuation levels of 200 basis points. Lastly, the ratio of the S&P 500 price to an ounce of gold is now 2.2, within the historical range of 1-3. We expect the results from our model to tilt more toward stocks as interest rates head lower and EPS growth picks up. Based in part on the output from our Stock-Bond Barometer, our recommended asset-allocation model for growth accounts is 70% growth assets and 30% fixed-income.

Small- and mid-cap stocks (SMID), despite bursts of outperformance, have underperformed large-caps year to date - as they have over the past five years. But they may be in a better position to generate market-beating returns going forward. SMID companies tend to focus on domestic markets, so their businesses could be less disrupted by the fallout from unrest in the Middle East, the Russian invasion of Ukraine, issues in China, or other geopolitical developments. As well, the prices of SMID stocks generally are lower than the prices of large-caps. SMID stocks can be risky, but despite those risks, diversified investors look to have exposure to small- and mid-caps based on the long-term performance record. We estimate that 20% of the U.S. stock market's capitalization is comprised of SMID stocks.

Small- and mid-cap stocks (SMID) have bursts of outperformance, but have underperformed large-caps year to date as they have over the past five years. But they may be in a better position to generate market-beating returns going forward. For one thing, SMID companies tend to focus on domestic markets, so their businesses could be less disrupted by the fallout from unrest in the Middle East, the Russian invasion of Ukraine, China issues, or other geopolitical developments. As well, the valuations of SMID stocks generally are lower than those of large-caps, with the P/E ratio on the Russell 2000 Small-Cap Index, at 14, compared to a trailing P/E above 25 for the S&P 500. Finally, there are long stretches in the record books when SMID stocks have outperformed large-caps. For example, from 2003-2021, the Russell 2000 Index climbed 450%, compared to an advance of 330% for the S&P 500 index. That said, SMID stocks can be risky. The standard deviation for monthly returns was 5.7% for SMID stocks over our 2003-2021 test period, versus 4.3% for large-caps. SMID stocks fell further in negative years during our test period, with an average 15% drop versus a 12% pullback for large caps. Still, despite the risks, diversified investors look to have exposure to small- and mid-caps based on the long-term performance record. Our recommended exposure to small- and mid-caps is now 12%-13% of equity allocation, below the benchmark weighting of 15%-20%.

After a rough Friday that ended a tough last week, Monday saw a nice comeback for stocks. Are we out of the woods yet? Not from a technical perspective, as many of our shorter-term and some intermediate-term indicators remain bearish. Inflation will be on everyone?s mind this week, although anxiety around price increases has been cut to a dull roar, if anything. August CPI comes out on Wednesday morning, August PPI drops on Thursday, and Friday brings the August Import Prices and September Consumer Sentiment readings. Quarterly EPS reports are mostly done, but we do have news from Oracle and Adobe still to come. All the major mega-cap indices traced out ?inside days? on Monday. That occurs when the entire price range for one day fits inside the range from the prior day. Many times, inside days (or inside weeks) can represent turning points in the overall trend of the market. These days are similar to doji candlesticks, which indicate indecision among buyers and sellers. On Monday, the S&P 500 (SPX), the S&P 100, and the Nasdaq bounced back by 1.2%, while the Nasdaq 100 (QQQ) added 1.3%. Sector strength was broad, with Information Technology, Industrials, Discretionary, Financials, Real Estate, Utilities, and Materials rising between 1% to 1.6%. Seasonality remains tough (into October) because it is an election year. The majors remain in price downtrends since the July peaks, and all are below their 50-day averages. It?s possible they are tracing out a higher low, and at least the Nasdaq and the QQQ could be working on bullish triangles while the SPX could be tracing out a bullish ascending triangle. (Mark Arbeter, CMT)